Is Health Savings Account the Right Choice For You?

A health savings account or HSA is similar to a bank account. As with a bank account, you own and control any money in your HSA, but there are two key differences.

First, as the name suggests, the money in a health savings account can only be used for medical expenses. Second, you can deposit money into an HSA without paying income taxes on it, saving you money on necessary expenses.

You are only eligible for an HSA with certain high-deductible health insurance plans. For this type of plan, you’ll have high out-of-pocket costs for all of your medical needs until you reach your deductible.

In return, this type of plan has a low premium, meaning you pay less each month to maintain health insurance coverage.

Employment Status Does Not Matter

As with other types of health care coverage, you may maintain an HSA regardless of your employment status. You’ll be able to keep your HSA if you lose your job, start a new job or even switch insurance providers.

If your new insurance is not HSA-compatible, you can still use the funds for medical expenses, but you will no longer be able to contribute additional funds.

You cannot have an HSA if you have another insurance provider with overlapping coverage. This includes if you are enrolled in Medicare. You also cannot have an HSA if someone claims you as his or her dependent on a tax return.

Advantages and Disadvantages of an HSA

High-deductible health plans and health savings accounts are not for everyone. If you’re expecting costly procedures, the monthly savings on your premium won’t be worth the extra costs to you for treatment.

But if you’re in good health and rarely need to visit a doctor, it could be a good choice to help you save.

Here is a table to show advantages and disadvantages of an HSA.

Advantages of an HSA

Disadvantages of an HSA

You can deposit pre-tax income and you may even earn interest on your funds.

If you withdraw money for nonmedical reasons, you must pay tax on it. If you’re under 65, you’ll also have to pay a 10 percent penalty.

Your employer may be able to contribute funds.

You may feel pressured to save money for the future rather than spend it on necessary care.

You can do research to find the best and most cost-effective care in your area.

Prices and quality ratings may be difficult to find.

You have full control over how much money you save up.

It can be difficult to budget for health expenses, as illness is often unexpected and costly.

You control if and how your money is spent.

If you are older or already have medical problems, you may not be able to save enough to cover expenses.

Annual HSA Limits

Be aware that if you choose to open an HSA, you can only deposit up to a certain amount of money each year. In 2012, an individual could contribute up to $3,100, and a family could contribute up to $6,250. These caps are adjusted annually. These limits are higher for individuals 55 and over, who can typically contribute an additional $1,000 per year to an individual or family HSA.

Your money will roll over from one year to the next. If you don’t use all of it this year, you can continue to add to it in case of an emergency down the road, or it can even act as a retirement account.

Qualified Medical Expenses for HSA

Money in your HSA may be used for any qualified medical expenses, as laid out by the federal government. You can pay for medical expenses directly from your HSA, such as by using a designated checkbook or debit card. You may also choose to keep records of your health expenses and request reimbursement from your HSA after you’ve already paid.

You can use it for your own expenses, as well as for your spouse’s and dependents’ qualified medical expenses, even if they are not covered by your high-deductible health insurance plan.

Qualified medical expenses typically include any procedures or services to diagnose, cure, treat or prevent illness or injury. Examples of covered expenses include the following:

• Most medical care and services, including doctor fees, laboratory fees, some alternative therapies, nursing home services and X-rays.

• Dental care

• Vision care

• Prescription drugs

Cosmetic surgery and health care premiums are examples of nonqualified medical expenses. Withdrawals for nonqualified expenses will be subject to income taxation and an additional 20 percent penalty. The penalty will not apply if you are 65 or older or permanently disabled. However, you will still have to pay regular income tax on nonqualified withdrawals.

Whether a health savings plan is the right choice for you ultimately depends on your health care needs and preferences. Speak with your family about any major expenses that could arise, and discuss if the benefits of an HSA would outweigh its drawbacks for your family and your particular needs.

(Katherine Pilnick is a writer for Debt.org, America’s Debt Help Organization. She has a double B.A. in journalism and mathematics from New York University and has more than seven years of writing experience.)